Ontario Court Upholds Closed Membership Structure as Corporate Best Practice

In Ottawa Humane Society v. Ontario Society for the Prevention of Cruelty to Animals (decided September 2017), Justice Beaudoin of the Ontario Superior Court of Justice upheld the conversion of an prominent Ontario charitable corporation into a closed membership corporation, in which the directors were the only voting members. The court found that the adoption of a closed membership was a corporate best practice and fell within the proper exercise of the board's business judgment.

1. Facts

The Ontario Society for the Prevention of Cruelty to Animals (the "SPCA") was incorporated under the Ontario Society for the Prevention of Cruelty to Animals Act (the "Act"). It has been Ontario's animal welfare charity since 1873. It is the only body charged with investigative and enforcement powers under the Act.

The SPCA owns and operates approximately 15 branches, facilities and clinics across the province. There are also 27 affiliated societies, which are separately incorporated non-profit animal welfare corporations.

The Act provides that the SPCA consists of Class A members (consisting of the affiliated societies), Class B members (consisting of individuals admitted to membership) and Class C members (who are honorary members). The Act provides that each class of member has such rights and obligations as are provided in the society's by-laws. By-laws are effective once approved by simple majority of the votes cast in accordance with the by-law at an annual or special general meeting.

For over a decade, the SPCA had faced governance-related challenges. In April 2016, the board sought to amend the by-laws by, among other things, creating a new class of voting membership reserved for the SPCA directors and extinguishing the Class A members (which the affiliated societies had held for 22 years). In effect, the SPCA changed its governance model from an open membership to a closed membership, with voting rights exclusively in favour of the board of directors.

A majority of the affiliate members voted in support of this change in the governance model. Five affiliate members opposed the change. Three affiliates brought proceedings challenging the validity of the change.

2. Rulings

Justice Beaudoin of the Ontario Superior Court of Justice upheld the governance change. His reasons may be summarized as follows:

● Under the Act, the affairs of the society are controlled and managed by its board of directors.

● There is no legislative or other accountability owed by the society to affiliates. Any accountability is owed to the Ministry of Community Safety and Correctional Services.

● The legislation never conferred any voting rights on affiliates. While the Act provides that affiliates are Class A members, it left the rights of the Class A members for the by-laws.

● The board adopted a closed membership model to:

● prevent the charity from being hijacked by a special interest group intent on advancing its own agenda;

● ensure stability and continuity in order to attract and maintain government funding;

● avoid at least a perceived conflict of interest when employees of local affiliates also sit as directors of the province-wide SPCA; and

● seek more diverse and qualified individuals as directors.

● The board's decision was entitled to the protection of the business judgment rule.

As Justice Beaudoin summarized it:

Having reviewed the material filed by both sides, I have no difficulty coming to the conclusion that the decision of the board, acting in the best interests of the [SPCA], was to put in place a modern 'best-practices' governance structure and is entitled to deference under the Business Judgment Rule.

3. Key Observations

Ontario SPCA makes a significant contribution to the law of charitable corporations. It is the first explicit recognition that, for many charitable corporations, a closed membership model is a corporate best governance practice. A closed membership model (also called a self-perpetuating board structure or a director-driven governance model) should be the standard against which all other governance models for charitable corporations are measured.

Some of the advantages of a closed membership model, in comparison to an open membership model, are:

● A closed model substantially eliminates the possibility of a hostile take-over of the charity's board and the resulant destabilizing effect of that threat (plus the cost of litigation over battles for control).

● With greater stability, the corporation can focus more on building a stronger organization and recruiting directors based on an assessment of the needs of the organization and the competencies of various board members taken as a whole.

● Unlike members (who have no duties to the corporation), directors are bound by duties of loyalty and care to act in the best interests of the corporation and can be held personally liable if they fail to discharge their obligations.

● Directors are also bound by strict corporate and charity law duties to avoid conflicts of interest and not receive any profit from their offices.

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